How Does an Irrevocable Life Insurance Trust Work?
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An irrevocable life insurance trust (ILIT) gives you more control over your insurance policy and how the death benefit will be issued to your beneficiaries when you die. Since a life insurance policy is considered an investment and an asset, it will be part of your estate after your death. That means the money — the death benefit — could be subject to an estate tax if your combined assets are over the exemption limit set by the federal government.
Understanding life insurance trusts
Irrevocable life insurance trusts are estate planning tools often used by parents for more flexibility when transferring money and property to their dependents. It also provides more control over your life insurance policy and how the money is paid after you die.
An insurance trust has three components:
- Grantor: The person creating the trust (that's you)
- Trustee:: The person managing the trust for you
- Trust beneficiaries: The people who will receive your assets after you die
For example, you could buy a life insurance policy for yourself and then transfer that policy into an irrevocable life insurance trust. For the trust, you would be the grantor and could name your dependents as trustees.
When you die, the life insurance death benefit is paid out into the trust. At this point, the trustee would collect the funds and distribute them how you requested. Usually, the grantor (you) sets up the trust and gives detailed instructions on how the funds should be used. One of many ways would be to name your children as the trust beneficiaries..
How to choose a trustee
The most important person in the ILIT is the trustee.
Some people name their spouse or an adult child as the trustee. If your loved ones don't have enough expertise to understand the role, you could instead name a company, such as a bank, to oversee the trust.
Advantages of irrevocable life insurance trusts
Life insurance trusts have several advantages for estate planners and others. The main one is minimizing and paying for estate taxes.
Minimizing estate taxes
If you own a life insurance policy when you die, the death benefit is included in your estate as an asset. But if your policy is in an ILIT, the death benefit would not be included in your estate or be taxable.
In some cases, putting your life insurance in an ILIT may reduce your entire estate's net worth below the federal exemption level, meaning no taxes for any of it.
Paying for estate taxes with death benefit proceeds
If the trust is set up correctly, the insurance policy's death benefit money could be used to help pay for estate taxes on your other assets.
Say your estate is $15 million of property, retirement accounts and stocks. At that level, estate taxes would need to be paid. Your trustee could use the money from your life insurance policy to pay that tax. This would allow your beneficiaries to receive the full value of the assets outside of the trust.
How does an estate tax work?
Your estate includes all the money and property you own. After you die, your estate will have to pay federal estate taxes if the total value is over the legally allowed amount. For 2025, the estate tax exemption is $13.99 million. This means you could leave $13.99 million to any heirs, who wouldn't have to pay estate taxes. If you're married, the exemption doubles to $27.98 million.
Let's say you have a $10 million life insurance policy and $4.99 million in other assets, such as property, cash and investments, when you die. Your total estate would be worth $14.99 million, which exceeds the exemption amount set by the federal government. Everything over $13.99 million — $1 million — would be taxed. But you could avoid that with an ILIT.
Which states have an estate tax?
Even if you don't have to pay federal estate taxes, you may have to pay taxes to the state. States' exemption levels are much lower than the federal level. Below are the states that tax estates and their exemption amounts:
State | Exemption amount |
|---|---|
| Connecticut | $13.99 million |
| District of Columbia | $4.873 million |
| Hawaii | $5.49 million |
| Illinois | $4 million |
| Maine | $7 million |
| Maryland | $5 million |
| Massachusetts | $2 million |
| Minnesota | $3 million |
| New York | $7.16 million |
| Oregon | $1 million |
| Rhode Island | $1.802 million |
| Vermont | $5 million |
Other irrevocable life insurance trust benefits
Life insurance trusts have many benefits other than estate tax purposes. These include:
- Maximizing control over the money: A trust will allow you to give detailed instructions on how your death benefit should be used. Typically, the money is given to the beneficiaries in a lump sum or on a specified payment schedule. With a trust, you can give more instructions, such as holding back funds if the beneficiaries are too young or placing the money in different investment accounts for future use.
- Providing income to your spouse: If the life insurance policy is put into a trust, the death benefit can provide income to your spouse without increasing their estate.
- Preventing outside control of the life insurance: In typical life insurance scenarios, if the beneficiary is incapacitated, becomes ill or dies, the insurance money would be transferred directly to the estate. But if the life insurance were in a trust, this wouldn't happen.
How to set up a trust
Setting up a trust properly can be confusing. Contact a financial planning professional, such as a certified public accountant (CPA), bank or trust planner, for help. If you do not set up a trust properly, many of these benefits would go away.
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